Hartalega Holdings Bhd
(Feb 15, RM4.78)
Maintain hold with a higher target price (TP) of RM5: Hartalega Holdings Bhd’s third quarter of financial year 2017 (3QFY17) revenue grew 4.4% quarter-on-quarter (q-o-q) to RM456 million, mainly on the back of higher average selling prices (ASPs) (5% q-o-q) and sharp appreciation in the US dollar against the ringgit (8.2% q-o-q). Although net profit came in lower at RM66.1 million, we estimate it had one-off foreign exchange losses of about RM17 million due to a revaluation of US dollar loans. Adding this back, core net profit would have increased to RM83.1 million. Furthermore, the 3QFY17 earnings before interest, taxes, depreciation and amortisation margin improved q-o-q by 1.7% percentage points to 24.7%. The group also declared a dividend of two sen per share for 3QFY17.

On a cumulative basis, revenue for the nine months of FY17 (9MFY17) rose to RM1.3 billion (18% year-on-year [y-o-y]) and core net profit rose to RM211 million (7.5% y-o-y). This was due to higher overall sales volumes from full contribution of Phase 1 and the growing capacity from Phase 2 of the Next Generation Glove Complex (NGC). However, we note that average 9MFY17 ASPs remained flattish y-o-y despite cost increases (raw material, natural gas and labour costs). Overall, 9MFY17 core net profit was slightly above our forecast (and 75% of consensus FY17).

Hartalega’s efforts to stagger the incoming capacity from Phase 2 of the NGC have alleviated overcapacity issues. Unlike Phase 1 of the NGC, where it installed two lines per month, the group is aiming to install one line per month in Phase 2 and has commissioned three new lines since October 2016. We estimate Hartalega is on track to complete Phase 2 by 3Q of forecast calendar year 2018 (CY18F), which would add 9.4 billion per annum to its current total capacity of 22.3 billion per annum.

The recent spike in raw material prices, including nitrile butadiene (NBR) by 35.8% q-o-q, has raised concerns. We believe the increase will be short-lived, and expect the recent spike to have a short-term impact from a time lag (one month) before the additional costs are passed on. We believe ASPs may have to be increased by 9% to 12% q-o-q to pass on the sharp cost hikes. However, we are confident that Hartalega has the ability to increase its ASPs to pass on the additional costs given the current robust glove demand.

Nevertheless, we raise our FY17F to FY19F earnings per share by 4.3% to 5.9% to account for stronger sales volume and higher ASPs due to the increase in raw material prices. Our “hold” call remains, but we raise our TP to RM5, based on an unchanged 23 times CY18F price-earnings ratio (five-year historical mean). Despite its superior technology in the NBR segment and strong fundamentals, we believe Hartalega’s current share price has priced in these factors. — CIMB Research, Feb 14